In 1929, a unique form of industrial democracy emerged when John Spedan Lewis was the first to relinquish ownership of his company, John Lewis, to future generations of employees. Now, there are over 300 employee-owned companies in the UK with over 200,000 employee owners. According to the Employee Ownership Association (EOA) the number of employee-owned companies is increasing at 10 per cent per annum.
Compared to other exit options, such as a trade sale, private equity or flotation, the awareness of employee-ownership is limited. The most common transition to employee ownership is when a business is sold by its shareholders to an Employee Ownership Trust (EOT). An EOT is a tax-advantaged form of employee benefit trust introduced by the Government to encourage wider employee-ownership. Therefore, we wanted to highlight employee-ownership as a specific topic in our Exit Ready campaign, and have provided additional insights on the tax benefits, what types of business are suited to EOTs, and the different models.
There has been a substantial increase in employee-ownership since RSM advised Parfetts, a large cash and carry operator, on its sale to an EOT over 10 years ago. But it’s clear that the message about the considerable tax advantages; increased resilience; ability to take a longer-term perspective, and the potential to improve productivity hasn’t yet fully resonated with business owners. In addition, knowledge from the professional community is weak and this is proving to be a barrier to growth.
What are the benefits to Employee-Ownership?
Most EOT acquisitions involve the selling shareholders receiving full market value for their shares. The Government introduced very generous tax incentives to encourage businesses to transition to an employee-ownership model, including a 0 per cent capital gains tax rate for selling shareholders. In addition, there is the ability for employee-owned businesses to pay employee bonuses of up to £3,600 per year free of income tax.
However, to qualify for the tax incentives, the employee-ownership needs to be carefully structured. The EOT needs to acquire control of the company by virtue of holding more than 50 per cent of the shares, along with a significant number of additional requirements to ensure that the tax relief is available.
In addition to the tax benefits, research from the EOA illustrated that employee-owned businesses are more resilient in difficult economic periods and overall more productive. It is thought that this is in part due to increased employee engagement brought about by involvement in decision making and the financial rewards of ownership.
What type of business is suitable for an EOT?
In short, there is no simple answer to this. In the past, EOTs have been popular with independent family-owned businesses particularly in sectors such as retail. However, this has been extended to other areas such as:
- business services – eg Make Architects;
- engineering – eg Arup, Mott McDonald;
- healthcare – eg Sunderland Home Care Associates;
- logistics – eg Unipart;
- manufacturing – eg Scott Bader; and
- IT eg Agilisys.
There are no set financial size constraints (e.g. turnover). However, to finance the acquisition, the company should be cashflow-generative, and either be capable of raising finance or have significant cash reserves.
What are the different models for Employee-Ownership?
There are several methods including direct, indirect and hybrid structures. In addition to the EOT structure, there are several other tax-advantaged structures to encourage employee ownership in other forms for example without the employees acquiring a majority interest.
What should I do if I want to understand more about EOTs?
Ultimately whether a business owner considers selling his or her business to their workforce is a personal choice. Given the tax incentives, it is something worth considering. This is especially the case if preserving the integrity and continuity of the business is important and rewarding the contribution of a loyal workforce. We recommend including this as an option when considering your succession plans.